What tax loopholes do multinational corporations use?

Tax loopholes

What tax loopholes do multinational corporations use?

As a business owner, you will know all about tax. Income tax. VAT. Corporation tax. These are just part and parcel of running a business. But you’ve also probably heard about companies who somehow avoid paying their taxes. Big multinational corporations that you see in the news about avoiding tax. But how do they do it?

Let’s start by clarifying the difference between tax avoidance and tax evasion. Tax evasion is illegal – you’re specifically doing everything you can to not pay any tax at all. But tax avoidance is (mostly) legal because you are still working within the rules of the law. You’re just taking advantage of tax loopholes that exist. Multinational corporations are more likely to do it because the bigger you are, the easier it is. Let’s see how…

Holding companies

The reason tax avoidance is more common in multinational corporations is because, well, they can benefit from being multinational. Each country has its own tax rates and some are lower than others. The benefit of this is that you will pay less tax in one country over another. Popular locations include Ireland, Luxembourg, and Switzerland. The stereotype of the Swiss bank account exists for a reason.

A holding company will oversee a number of subsidiary companies (more on that in a moment) and absorb their profits. This means they pay tax on these profits at the rate of the country where the holding company is incorporated. For example, Amazon’s European headquarters are in Luxembourg. They have a subsidiary in the UK, but sales from it are funnelled back to the Luxembourg HQ.

Subsidiary companies

As well as the above, subsidiaries can also be used as a means to avoid tax. A multinational can open a subsidiary in a country with a lower tax rate and use it for internal trading. The idea is they create a subsidiary that can provide a service to their other subsidiaries and use that as a way to move money within the company to lower tax rate countries.

But there is a fairness principle called “arm’s length prices” which basically means a company has to offer its services at a fair market value as to not undercut competitors or overprice their offering. This gets muddy though when working across international borders, meaning it’s hard to define what “fair market value” is.

So a multinational corporation will conduct business between two or more subsidiaries in different countries. They might have one in the UK and one in Switzerland. The Swiss company will then offer a service or product to the UK one at an overstated price. This puts money into the Swiss company where they will then pay less tax. It’s a common tactic – nearly 60% of all trading occurs within a group of companies.

Keeping it in the family

That’s the key to much of the tax avoidance you hear about. Multinational corporations will use multiple companies in different countries to funnel their profits through various loopholes. That way, they aren’t breaking the law and can maximise how much they earn. Here are some other tricks they might use:

Copyright – They may copyright various parts of their company, such as a logo, in a country with lower tax rates. Subsidiaries then have to pay the copyright holder to use the logo. This funnels money into the holding company yet again.

Tax relief – Certain countries have tax relief schemes to promote investment. So just as they shift profits to low-tax countries, they shift costs to high-tax countries. The more they spend, the more they have to gain from tax relief incentives. A simple way will be through capital expenditure – investing in property and equipment.

Opinion is split on the ethics of using these loopholes. And while we’ve focused on multinational corporations, some of these tactics can be used by SMEs too. At the end of the day, it’s just one way to keep tax down and bring in the most money possible for your business. Is that a bad thing? Only you can decide.

At Big Hand, we offer our business expertise to those who need it. From accounting queries to doing tax the right way, we can handle all of your requests. To find out more – or simply just pick our brains – get in touch on 0161 327 2911.

By |September 15th, 2020|Business tips|0 Comments

About the Author:

Since 2013, Sophie has been an integral part of the Big Hand team. As a social butterfly, Sophie is mostly responsible for introducing new clients to the company. If you’re an avid networking, you’re most likely to meet Sophie at local events. Alongside attracting new business, she also assists with account management, and she manages payroll on behalf of clients. For fun, Sophie loves to keep fit running or playing korfball with her team. She is also in the middle of learning a new language and so her most recent challenge is attempting to read Harry Potter in Dutch.